Exonerating the Community Reinvestment Act by Steve Horwitz
In my various talks and written work on the financial crisis and the recession, I’ve taken pains to minimize the responsibility assigned to the Community Reinvestment Act for causing the high-risk loans that led to so much trouble. This point often bothers many free market types in the audience/readership who are convinced the CRA was a major cause of the high risk loans that were the core of the problem. I have responded by saying that what I knew of the empirical evidence showed that the CRA was a minor factor, if one at all. Today, I came across a piece that really makes that case clearly and points to the relevant empirics.
Dwight Jaffee of the Berkeley Business School testified in front of a Congressional Commission on the crisis and the written version of his remarks are linked here (Note: it’s on Scribd and can only be printed off the web, not downloaded). Those remarks are one of the best overviews of the role of housing policy and the various agencies that I’ve read since the recession began. I recommend it highly. He puts the blame squarely on Fannie and Freddie and the way in which they combined private profits with a public mission and an implicit government guarantee.
But he also exonerates the CRA. Based on a Fed study by Canner and Bhuta (2008) (and a similar study by Traiger and Hinckley in 2008 that reached similar results) that compared default rates and the like between zip codes that just qualified for CRA credit and those that did not, Jaffee reports:
Only 6 percent of identified subprime mortgages in 2006 were made to CRA-qualified borrowers or neighborhoods by CRA-covered institutions.
For loans originated between January 2004 and April 2008, the observed 90-day delinquency rates are actually slightly lower in zip codes that are CRA-qualified than for zip codes with median incomes that are just sufficiently higher to make them CRA-unqualified.
The reason why the CRA wasn’t a factor is two-fold: it does not cover non-bank lenders, such as mortgage and finance companies, which means all the high-risk loans originated from those sources (which were many) were taking place without CRA incentives. They were much more about being able to sell them off to Fannie and Freddie. Second, in theory, the banks to whom the CRA does apply still had to demonstrate their loans were “within the norms of safe and sound operation.”
As Jaffee says, there may be lots of other reasons to not like the CRA, but that list should not include any responsibility for the financial crisis. So folks, it’s time to stop blaming the crisis on the CRA and get the attention back where it belongs: expansionary monetary policy combined with GSEs with a government guarantee.
Steve Horwitz
Charles A. Dana Professor of Economics
St. Lawrence University
This article was originally posted at Coordination Problem.
Image by Bill Longshaw / FreeDigitalPhotos.net.
